The Challenge of Climate Financing for Agri-SMEs

There has been a recent and noticeable shift in the dialogue around climate change. COP26 sparked an increasing awareness about the severity of climate impacts on rural populations in the global south, and new commitments to helping these populations adapt. 

However, as the climate adaptation challenge for smallholder farmers and agri-SMEs comes into greater focus and funding is mobilized, there has been a concurrent realization that the infrastructure to effectively channel this finance where it needs to go does not exist. In our latest State of the Sector report, we dove into how climate change is impacting agri-SMEs and how capital and financial service providers can fill the significant unmet need for climate finance.

Climate impacts on agri-SMEs

While food systems are responsible for about 30% of global greenhouse gas emissions, agri-SMEs in developing countries contribute very little to this total. The bulk of emissions are generated by large-scale, intensive commercial agriculture in Europe, the Americas, and China. Sub-Saharan Africa and Southeast Asia contribute 10% and 12.5% of global food systems emissions, respectively. 

But climate risks and shocks disproportionately impact agri-SMEs in these same regions. These include extreme weather events like storms, floods, and droughts; emergence of new pests and diseases as a result of increased temperatures; declining productivity; and volatile supply and prices due to all of the above factors.

An emerging imperative in the market

There is little doubt that the climate crisis will significantly impact agri-SMEs in the coming years—in fact, the impacts are already felt by many. To face these risks, agri-SMEs need support in adapting their business models and operations, and adopting nature-based solutions.

Analysis of the latest data from the Climate Policy Initiative reveals that only 1.5% of global climate finance (about USD 10 billion) is channeled to small-scale agriculture. Of that, only 7% (about USD 700 million) goes to value chain actors. The vast majority of this funding (>95%) come from public capital providers. Additionally, review of the ISF Fund Database reveals that impact-oriented funds with a clear mandate to focus on both climate finance and agri-SMEs have an estimated USD 300 million in assets under management. Essentially, in comparison to the total articulated demand, current climate financing for agri-SMEs represents a drop in the ocean.

Many funders are scrambling to fill this gap, but without much analysis of what investments might have different effects on mitigation, adaptation, and nature-positive solutions. We believe that a foundational infrastructure must be quickly established within the next 3-5 years to greatly increase the financing available to agri-SMEs for climate-related investments.

Building the infrastructure around climate finance

Despite increasing attention, climate finance for agri-SMEs has yet to emerge as a strong channel of funding with appropriate products and services, particularly those focused on adaptation. The public sector funding that does exist primarily focuses on big-ticket initiatives and is mostly disbursed as grants and concessional debt. 

Over the next five years, in order to build a stronger infrastructure around climate finance for agri-SMEs, we recommend that:

1. New models and taxonomies are quickly developed and used for investment strategies and reporting. International models and standards should be research-led, and used as a foundation for the agri-SME finance community to establish common approaches to achieving climate mitigation, adaptation, and nature-based solution goals. International donors and DFIs, along with governments, must help develop these standards and sponsor the complex technical work of applying them to specific agendas, like agri-SME climate finance.
2. Large donor investments create a viable pipeline at scale. Our research clearly reveals a need for more agri-SME product/service solutions within viable business models. Many of these solutions will be completely new technologies. While some agri-SMEs may be at the forefront of innovation, many others will be slow to adopt solutions. Donors can invest in both the early-stage development and commercialization of climate solutions, as well as the expensive new intermediation that will be needed to channel these agri-SMEs into the portfolios of funders.
3. Climate finance is integrated into all channels of agri-SME finance. Different finance channels serve different segments of agri-SMEs with different products—but all have an important role to play in supporting climate mitigation, adaptation, and nature-positive responses. Yet few have the expertise to understand specific climate needs, design appropriate products, and channel the large volume of climate capital into viable financial offerings. Bridges must quickly be built between traditionally siloed communities of investment practitioners in order to introduce this critical climate lens.

What’s next?

In order to respond to the scale and urgency of the climate challenge, the larger ecosystem of intermediation, support, and monitoring and evaluation needs to be strengthened. This will help build more awareness and generate demand from agri-SMEs for climate financing products and services, effectively channel these funds, and measure their ultimate impact on climate mitigation and adaptation.

For more information, read the full report.